Consumer Portfolio Services, Inc. — Q2 2019 Form 10-Q
Business context and reporting period
For the quarter and six months ended June 30, 2019. CPS purchases and services U.S. retail automobile contracts, primarily for subprime borrowers, and funds its portfolio mainly through asset-backed securitizations and warehouse credit facilities. Unless otherwise stated, amounts below are in millions of dollars.
Financial performance and position
- Q2 revenue: $86.3, down 13.1% from $99.4 a year earlier. Interest income was $84.4, down 12.9%.
- Q2 earnings: Operating expenses were $83.6 versus $94.7; pretax income was $2.8 versus $4.7; net income was $1.8 versus $3.2. Diluted EPS was $0.08 versus $0.13.
- Six-month results: Revenue was $174.6, down 14.0%; operating expenses were $169.1, down 12.7%; net income was $3.5 versus $6.3. Diluted EPS was $0.15 versus $0.25.
- Interest and margins: Interest expense rose 10.0% to $27.7 in Q2 and 11.7% to $55.0 for six months. Annualized net interest yield fell to 9.5% in Q2 from 12.4%, and to 9.7% for six months from 13.0%.
- Credit costs and performance: Provision for credit losses declined to $20.5 in Q2 from $35.5 and to $44.4 for six months from $76.0. On the owned managed portfolio, delinquencies were 13.0% at June 30, 2019 versus 8.7% at June 30, 2018; delinquencies plus repossessions were 14.7% versus 10.2%. Annualized net charge-offs were 8.0% versus 7.9% for the respective second quarters.
- Cash flow: Six-month operating cash flow was $112.4, investing cash outflow $115.4, and financing cash inflow $8.1. Cash and restricted cash totaled $135.2 at period end, including $9.7 unrestricted cash and $125.5 restricted cash.
- Debt and liquidity: Debt was approximately $2,270.2, principally $2,077.3 securitization trust debt and $139.2 warehouse borrowings. CPS reported $160.8 of aggregate warehouse availability, conditional on sufficient eligible collateral; it also reported only $16.3 of such collateral. The company was in compliance with financial covenants.
- Balance sheet: Total assets were $2,524.8 and shareholders’ equity $200.7. Fair-value finance receivables were $1,158.4, while net receivables carried under the other method were $1,147.6.
Material changes versus the prior comparable period
- Lower interest income was the main driver of weaker revenue and earnings. CPS attributed the decline to a larger share of receivables accounted for at fair value, whose yield reflects expected credit losses and is lower than the yield on other receivables.
- The portfolio continued to grow: six-month contract purchases were $493.2 versus $425.3, and the managed portfolio reached $2,399.2 versus $2,329.2 a year earlier.
- The reported allowance for credit losses fell to $32.7 from $94.4 a year earlier; CPS said receivables acquired since January 2018 are accounted for at fair value, with expected losses incorporated into the yield rather than a separate periodic provision.
- Interest costs rose, including securitization debt cost of 4.4% for the first half versus 4.1%. General and administrative expense also increased, while employee costs decreased.
Outlook, risks, contingencies, and unusual items
- No specific full-year earnings or purchase-volume guidance is provided. Management says results depend on credit performance, financing availability and terms, securitization execution, dealer supply, interest rates, and economic conditions including unemployment.
- Liquidity depends partly on releases of excess cash from securitization trusts; weaker delinquencies or losses can restrict releases and require additional credit enhancement. CPS cautions that internally generated cash may not meet all cash needs.
- CPS reported substantial indebtedness and warned that insufficient operating cash flow could impair debt service. Warehouse facilities and securitizations have covenants and some debt agreements include cross-default provisions.
- On July 24, 2019, after quarter-end, CPS completed a $243.5 million securitization; the notes had a weighted-average yield of approximately 3.36%.
- A former employee’s wage-and-hour suit purports to seek class treatment; no class certification motion had been filed or granted. CPS recorded no liability for this claim. The company estimated probable legal losses as immaterial and reasonably possible losses not exceeding $3 million, while noting outcomes remain uncertain.
- CPS adopted the new lease standard in 2019, recognizing operating-lease right-of-use assets and liabilities. It also said the forthcoming CECL credit-loss standard was expected to materially affect financial position and results; a later proposed effective date for smaller reporting companies was under evaluation.
Important facts for investors to verify
- Whether rising delinquencies and charge-offs translate into higher future losses, especially given the lower reported allowance and the different fair-value accounting treatment.
- Whether securitization cash releases and eligible collateral support planned contract purchases and warehouse availability.
- How lower receivable yields and higher funding costs affect net interest yield and profitability.
- The eventual outcome and financial impact, if any, of the wage-and-hour litigation and other legal contingencies.
- The expected impact and timing of CECL adoption, and the performance assumptions used to value Level 3 fair-value receivables.